5.4 - MONOPOLISTIC COMPETITION

5.4 - MONOPOLISTIC COMPETITION

• imperfect competition. short run profit maximisers. sell non-homogeneous products due to branding (there is product differentiation). lot of relatively close substitutes. makes XED of goods and services sold high. model is based on assumption that there are large number of buyers and sellers, which are relatively small and act independently. each seller has same degree of market power as other sellers, but market power is relatively weak. firms in a monopolistically competitive market compete using non-price competition. no barriers to entry to and exit from the market. since firms have downward sloping demand curve, can raise price without losing all of customers because firms have some degree of price setting power. imperfect information
• wide variety of choice. model of monopolistic competition more realistic than perfect competition.supernormal profits produced in short run might increase dynamic efficiency through investment.
• allocatively inefficient in short and long run. in long run, dynamic efficiency might be limited due to lack of supernormal profits. since firms don't fully exploit factors, excess capacity in market. makes firms productively inefficient in both short and long run. not as efficient as those in perfectly competitive market. in monopolistically competitive market, firms have x-inefficiency as have little incentive to minimise costs.
• CHARACTERISTICS
• ADVANTAGES
• DISADVANTAGES

Slide 2

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• in short run, firms profit maximise at the point MC = MR. area PCAB represents supernormal profits that firms in a monopolistically competitive market earn in short run.

Slide 3

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• in long run, new firms enter market since they are attracted by profits that existing firms are making. makes demand for existing firms’ products more price elastic which shifts the AR curve to the left. only normal profits can be made in long run. long run equilibrium point is PQ. firms can try and stay in short run by differentiating products and innovating.